United States Court of Appeals for the Federal Circuit

Transcription

1 United States Court of Appeals for the Federal Circuit LASERDYNAMICS, INC., Plaintiff-Appellant, v. QUANTA COMPUTER, INC., Defendant-Cross Appellant, and QUANTA COMPUTER USA, INC., QUANTA STORAGE, INC., AND QUANTA STORAGE AMERICA, INC. Defendants , Appeals from the United States District Court for the Eastern District of Texas in case no. 06-CV-0348, Judge T. John Ward. Decided: August 30, 2012 MATTHEW C. GAUDET, Duane Morris LLP, of Atlanta, Georgia, argued for plaintiff-appellant. On the brief were ROBERT L. BYER, of Pittsburgh, Pennsylvania, and GREGORY M. LUCK, of Houston, Texas, and KRISTINA

2 LASERDYNAMICS v. QUANTA COMPUTER 2 CAGGIANO, of Washington, DC. Of counsel was THOMAS W. SANKEY, of Houston, Texas. TERRENCE DUANE GARNETT, Goodwin Procter, LLP, of Los Angeles, California, argued for defendant/crossappellant. With him on the brief were VINCENT K. YIP, and PETER J. WIED. Before DYK, CLEVENGER, and REYNA, Circuit Judges. REYNA, Circuit Judge. These appeals come before us after two trials in the district court a first trial resolving the claims of patent infringement and damages, and a second trial ordered by the district court to retry the damages issues. The parties raise various issues relating to the proper legal framework for evaluating reasonable royalty damages in the patent infringement context. Also before us are questions regarding implied license, patent exhaustion, infringement, jury instructions, and the admissibility of a settlement agreement. For reasons explained in detail below, we affirm-in-part, reverse-in-part, and remand. I. BACKGROUND A. The Patented Technology and the Optical Disc Drive Industry LaserDynamics, Inc. ( LaserDynamics ) is the owner of U.S. Patent No. 5,587,981 ( the 981 Patent ), which was issued in The patent is directed to a method of optical disc discrimination that essentially enables an optical disc drive ( ODD ) to automatically identify the type of optical disc e.g., a compact disc ( CD ) versus a digital video disc ( DVD ) that is inserted into the ODD. Claim 3, which was asserted at trial, is representative:

3 3 LASERDYNAMICS v. QUANTA COMPUTER 3. An optical disk reading method comprising the steps of: processing an optical signal reflected from encoded pits on an optical disk until total number of data layers and pit configuration standard of the optical disk is identified; collating the processed optical signal with an optical disk standard data which is stored in a memory; and settling modulation of servomechanism means dependent upon the optical disk standard data which corresponds with the processed optical signal; (c) [sic] the servomechanism means including: a focusing lens servo to modulate position of a focusing lens; and a tracking servo to modulate movement of a pickup. This automated process saves the user from having to manually identify the kind of disc being inserted into the ODD before the ODD can begin to read the data on the disc. The patented technology is alleged to be particularly useful in laptop computers where portability, convenience, and efficiency are essential. At least as early as 2006, a laptop computer was not commercially viable unless it included an ODD that could automatically discriminate between optical discs. Yasuo Kamatani is the sole inventor of the 981 Patent. In 1998, viewing DVD technology as the next major data and video format, Mr. Kamatani founded LaserDynamics and assigned the 981 Patent to the company. Mr. Kamatani is the sole employee of LaserDynamics, which

4 LASERDYNAMICS v. QUANTA COMPUTER 4 is exclusively in the business of licensing Mr. Kamatani s patents to ODD and consumer electronics manufacturers. When LaserDynamics was founded, the DVD market had reached few mainstream consumers, and there was some skepticism among electronics companies as to the likely success of this technology compared with the established VHS format. By 2000, however, DVD sales and the ODD market were sharply rising. By 2003, most homes had DVD players and nearly every computer had an ODD. An ODD having automatic disc discrimination capability quickly became the industry standard for DVD players and computers. 1 B. LaserDynamics Licensing History of the 981 Patent According to LaserDynamics, it was initially difficult to generate interest in licensing the 981 Patent, due to the novelty of the technology and LaserDynamics limited operating capital and bargaining power. Nevertheless, LaserDynamics entered into sixteen licensing agreements from 1998 to These licenses were granted to well known electronics and ODD manufacturers such as Sony, Philips, NEC, LG, Toshiba, Hitachi, Yamaha, Sanyo, Sharp, Onkyo, and Pioneer. All of the licenses were non- 1 While LaserDynamics contends that all ODDs performing a disc discrimination method are within the scope of the 981 Patent, Quanta Computer, Inc. ( QCI ) disputes that Mr. Kamatani invented the concept of disc discrimination, alleging that [t]here are numerous other techniques disclosed in the prior art for determining what type of disc is inserted in an optical disc drive. QCI Br. at 10; A648. The validity of the 981 Patent is not before us, and so we do not address whether the scope of the invention as alleged by LaserDynamics is accurate other than to consider QCI s non-infringement contentions below.

5 5 LASERDYNAMICS v. QUANTA COMPUTER exclusive licenses granted in exchange for one time lump sum payments ranging from $57,000 to $266,000. There is no evidence that these licenses recited the lump sum amounts as representing a running royalty applied over a certain period of time or being calculated as a percentage of revenues or profits. These sixteen licenses were admitted into evidence in the first trial, as explained below. Several other lump sum licenses were granted by LaserDynamics between 1998 and 2003 to other ODD and electronics manufacturers via more aggressive licensing efforts involving actual or threatened litigation by LaserDynamics. These licenses, in addition to the sixteen licenses from the first trial, were admitted in the second trial. On February 15, 2006, LaserDynamics (and Mr. Kamatani) entered into a license agreement with BenQ Corporation to settle a two-year long litigation for a lump sum of $6 million. This settlement agreement was executed within two weeks of the anticipated trial against BenQ. Kamatani v. BenQ Corp., No. 2:03-CV-437 (E.D. Tex. Jan. 20, 2006) (pre-trial conference order indicating trial was expected to begin in the last week of February 2006). By the time of the settlement, BenQ had been repeatedly sanctioned by the district court for discovery misconduct and misrepresentation. The district court had allotted BenQ one-third less time than Mr. Kamatani for voir dire, opening statement, and closing argument, had awarded attorneys fees to Mr. Kamatani for bringing the sanctions motion, had stricken one of BenQ s pleaded defenses, and had sanctioned BenQ $500, as an additional punitive and deterrent measure. Kamatani v. BenQ Corp., No. 2:03-CV-437, 2005 U.S. Dist. LEXIS 42762, at *20, *44-46 (E.D. Tex. Oct. 6, 2005). The district court believed that its harsh sanctions were justified because BenQ s extensive misconduct demonstrate[d] a

6 LASERDYNAMICS v. QUANTA COMPUTER 6 conscious intent to evade the discovery orders of this Court, as well as violate[d] this Court s orders and the rules to an extent previously unknown by this Court. Id. at * The BenQ settlement agreement was admitted into evidence in the second trial. Finally, in 2009 and 2010, LaserDynamics entered into license agreements with ASUSTeK Computer and Orion Electric Co., Ltd., respectively, for lump sum payments of $1 million or less. These two licenses were admitted into evidence in the second trial. In total, twenty-nine licenses were entered into evidence in the second damages trial. With the exception of the $6 million BenQ license, all twenty-nine licenses were for lump sum amounts of $1 million or less. C. Quanta Computer Inc. and Quanta Storage Inc. Quanta Storage, Inc. ( QSI ) is a manufacturer of ODDs that was incorporated in QSI is headquartered in Taiwan and is a partially-owned subsidiary of Quanta Computer, Inc. ( QCI ), with which it shares some common officers, directors, and facilities. QCI s corporate headquarters are also located in Taiwan, and its factories are located in China. QCI holds a minority share in QSI and does not control QSI s operations. QCI assembles laptop computers for its various customers, which include name brand computer companies such as Dell, Hewlett Packard ( HP ), Apple, and Gateway. QCI does not manufacture ODDs, but will install ODDs into computers as instructed by its customers. QCI will sometimes purchase ODDs directly from ODD manufacturers such as Sony, Panasonic, Toshiba, or QSI, as directed by QCI s customers. Predominantly, however, QCI will be required to purchase the ODDs from the customer for whom QCI is assembling the laptop com-

7 7 LASERDYNAMICS v. QUANTA COMPUTER puter. In other words, QCI s typical practice is to buy ODDs from Dell, HP, Apple, or Gateway, which in turn purchased the ODDs from the ODD manufacturers. Because QCI eventually sells the fully assembled laptop computers including the ODDs to its customers, this process is called a buy/sell arrangement. When QCI purchases ODDs from one of its customers in a buy/sell context, it buys the ODDs for an artificially high mask price set by the customer and designed to hide the actual lower price of the ODDs from the customer s competitors. Thus, the mask price is always higher than the actual price to the customer. QSI first sold its ODDs for integration into laptop computers in the United States in In 2002, LaserDynamics offered QSI a license under the 981 Patent, but QSI disputed whether its ODDs were within the scope of the 981 Patent and declined the offer. QCI sold its first computer in the United States using an ODD from QSI in It was not until August 2006 that LaserDynamics offered a license to QCI concurrently with the filing of this lawsuit. To date, neither QSI nor QCI has entered into a licensing agreement with LaserDynamics relating to the 981 Patent. D. ODDs Made by Philips and Sony/NEC/Optiarc Just as computer sellers Dell, HP, Apple, and Gateway outsource the assembly of their computers to companies like QCI, some sellers of ODDs outsource the assembly of their ODDs. QSI assembles ODDs for Philips and Sony/NEC/Optiarc two of the largest sellers of ODDs. As discussed above, Philips and Sony/NEC/Optiarc are licensed by LaserDynamics to make and sell ODDs within the scope of the 981 Patent. Under the license agreements, both Philips and Sony/NEC/Optiarc also enjoy have made rights that

8 LASERDYNAMICS v. QUANTA COMPUTER 8 permit them to retain companies like QSI to assemble ODDs for them. When QCI purchases ODDs directly from Philips or Sony/NEC/Optiarc i.e., not under a buy/sell arrangement QCI has no knowledge of which entity assembled the ODDs. QCI pays Philips or Sony/NEC/Optiarc directly for the ODDs, which are not sold under the QSI brand name even if assembled by QSI. II. PROCEDURAL HISTORY In August 2006, LaserDynamics brought suit against QCI and QSI for infringement of the 981 Patent. Because asserted claim 3 of the 981 Patent is directed to a method of disc discrimination performed by an ODD, as opposed to the ODD itself, LaserDynamics relied on a theory of infringement that QSI s and QCI s sales of ODDs and laptop computers, respectively, actively induced infringement of the method by the end users of the ODDs and laptop computers. See 35 U.S.C. 271(b). On a pre-trial summary judgment motion brought by QCI and QSI relating to their defenses of patent exhaustion and implied license, the district court made the following rulings: (1) the exhaustion doctrine does not apply to sales made overseas by [LaserDynamics ] licensees ; (2) QCI has an implied license with respect to drives manufactured by non-quanta entities licensed by [LaserDynamics] under worldwide licenses and sold by those licensees to QCI for incorporation into QCI computers. In addition, QSI is not liable for manufacturing drives for Philips or Sony/NEC/Optiarc which are, in turn,

9 9 LASERDYNAMICS v. QUANTA COMPUTER resold into the United States to non-quanta entities ; and (3) the Quanta defendants do not have an implied license with respect to drives that are manufactured by QSI and eventually sold to QCI (or another Quanta entity), notwithstanding the fact that those drives are sold through Philips or Sony/NEC/Optiarc, two of [LaserDynamics ] licensees. E.I. Du Pont de Nemours & Co. v. Shell Oil Co., 498 A.2d 1108, 1116 (Del. 1985). The effect of such transactions is to grant an impermissible sublicense. LaserDynamics, Inc. v. Quanta Storage Am., Inc., No. 2:06-CV-348-TJW-CE, 2009 U.S. Dist. LEXIS , at *3-5 (E.D. Tex. June 29, 2009) ( Pre-Trial Op. ). Based on these rulings, LaserDynamics dropped its claims against QSI and opted to pursue its active inducement of infringement claims against QCI only at trial. QCI was first on notice of the 981 Patent in August 2006 when the complaint was filed. Between August 2006 and the conclusion of the first trial in June 2009, QCI sold approximately $2.53 billion of accused laptops into the United States. LaserDynamics sought reasonable royalty damages under 35 U.S.C Pursuant to the analytical framework for assessing a reasonable royalty set forth in Georgia-Pacific Corp. v. United Plywood Corp., 318 F. Supp (S.D.N.Y. 1970), 2 the date of the hypothetical negotiation between the parties was deemed by the 2 This court has sanctioned the use of the Georgia- Pacific factors to frame the reasonable royalty inquiry. Those factors properly tie the reasonable royalty calculation to the facts of the hypothetical negotiation at issue. Uniloc USA, Inc. v. Microsoft Corp., 632 F.3d 1292, 1317 (Fed. Cir. 2011).

10 LASERDYNAMICS v. QUANTA COMPUTER 10 district court (over QCI s objections) to be August 2006 the date that QCI first became aware of the 981 Patent and was therefore first potentially liable for active inducement of infringement. See Global-Tech Appliances, Inc. v. SEB S.A., 131 S. Ct. 2060, 2068 (2011) (holding that knowledge of the patent is necessary to prove active inducement of infringement). A. The First Trial The damages theory advanced by LaserDynamics in the first trial was presented chiefly through LaserDynamics expert, Mr. Emmett Murtha. Mr. Murtha opined that a running royalty of 2% of the total sales of laptop computers by QCI is what the parties would have agreed to as a reasonable royalty had they engaged in a hypothetical negotiation in August This opinion was based on Mr. Murtha s understanding, obtained primarily from LaserDynamics other expert witnesses, that the technology covered by the 981 Patent provided an important and valuable function that was present in all ODDs currently in use, and that the presence of this function was a prerequisite for any laptop computer to be successful in the marketplace. Since QCI sold laptop computers and not ODDs, Mr. Murtha viewed the complete laptop computer as an appropriate royalty base. To arrive at his 2% per laptop computer royalty rate, Mr. Murtha began by finding that 6% would be a reasonable royalty rate to pay with respect to an ODD alone. Mr. Murtha reached his conclusion of a 6% per ODD royalty by relying on comparable rates in two separate licensing programs involving DVDs where the rates were 3.5 in one case and 4 percent in another case. A621, A The two patent licensing programs were un- 3 Citations to A herein refer to pages of the Joint Appendix filed by the parties.

11 11 LASERDYNAMICS v. QUANTA COMPUTER dertaken by third parties in the DVD industry around Id. He also relied on a very comprehensive royalty survey that was done by the Licensing Executive Society in 1997, which he viewed as a standard textbook for people who are seeking to set reasonable royalty rates. Id. The licensing survey was not limited to any particular industry but was across whatever technologies were being licensed by the people who responded, and suggested that in general, across all of those unrelated technologies, for a minor improvement, we would charge 2 to 5 percent. For a major improvement, we would charge 4 to 8 percent. And for a major breakthrough, 6 to 15 percent.... A There is no evidence in the record that the two third-party licensing programs or the industries involved in the licensing survey included the patented technology or even involved optical disc discrimination methods. See id.; A652 ( [T]he two licensing programs are important, because they indicate the going rate, if you will, at least for those patents, which may or may not be as important as the one in question. ) (emphasis added); A653 ( Q. Was the [licensing] survey directed to ODD technology? A. No. ). Mr. Murtha did not deem the sixteen lump sum licenses that were entered into between LaserDynamics and various electronics companies between 1998 and 2001 to establish a royalty rate for the 981 Patent. Although he conceded that QCI would absolutely be aware of these prior agreements in a hypothetical negotiation context, he dismissed any probative value of these 16 licenses because they were entered into before the August 2006 hypothetical negotiation date. He reasoned that, by 2006, the DVD market was larger and more established such that the value of the patented technology was better appreciated and LaserDynamics had more bargaining power.

12 LASERDYNAMICS v. QUANTA COMPUTER 12 Based on his discussions with LaserDynamics other experts, Mr. Murtha concluded that the patented technology in the ODD is responsible for one-third of the value of a laptop computer containing such an ODD. Thus, he arrived at his 2% per laptop computer rate simply by taking one-third of the 6% rate for the ODD. When Mr. Murtha s proffered 2% running royalty rate was applied to QCI s total revenues from sales of laptop computers in the United States $2.53 billion the resulting figure presented to the jury was $52.1 million. By contrast, QCI s theory of damages was that a lump sum of $500,000 would be a reasonable royalty. QCI s expert, Mr. Brett Reed, found the 16 licenses in evidence all lump sums ranging between $50,000 and $266,000 to be highly indicative of the value of the patented technology according to LaserDynamics, and of what a reasonable accused infringer would agree to pay for a license. Prior to the first trial, QCI filed a motion for partial summary judgment, or in the alternative a motion pursuant to Daubert v. Merrell Dow Pharmaceuticals, Inc., 509 U.S. 579 (1993), with respect to damages. QCI sought to limit damages to a one-time lump sum of $232, based on LaserDynamics prior licenses, and to preclude Mr. Murtha from offering any opinion to the contrary for being unreliable by ignoring this established licensing practice. QCI s motion heavily criticized Mr. Murtha s opinions for being fundamentally inconsistent with LaserDynamics licenses in either form or amount. However, QCI s motion did not challenge Mr. Murtha s onethird apportionment calculation to go from his 6% rate per ODD to his 2% rate per laptop computer, nor did it challenge his use of a completed laptop computer as a royalty base. The district court never ruled on QCI s motion. QCI also moved in limine to preclude testimony

13 13 LASERDYNAMICS v. QUANTA COMPUTER regarding damages in excess of $266,000 or suggesting that the prior 16 licenses did not establish a royalty rate. The district court denied this motion. At no point during the first trial did QCI object to or seek to limit Mr. Murtha s testimony relating to his apportionment or royalty base selection, nor did QCI file a pre-verdict motion for judgment as a matter of law ( JMOL ) implicating such issues pursuant to Federal Rule of Civil Procedure 50(a). Two other issues arose during the first trial that are pertinent to this appeal: (1) the district court s instructions to the jury concerning QCI s position regarding its buy/sell arrangements, and (2) the adequacy of LaserDynamics proof of infringement. We discuss each issue in turn. 1. The District Court s Instruction to the Jury Upon perceiving a change in position by QCI concerning the frequency with which QCI s ODDs were obtained via a buy/sell arrangement, the district court instructed the jury as follows: [P]rior to yesterday, the position of Quanta Computers was that this buy/sell arrangement... [was] one of the ways in which... they did their business. Yesterday, the testimony was, for the first time, that that was the predominant method of doing business. You are instructed that this constitutes a significant change in the testimony, and no documents have been produced to support that, and that you may take this instruction into account in judging the credibility of all of this witness testimony and all other Quanta Computer s positions in this case.

14 LASERDYNAMICS v. QUANTA COMPUTER 14 A A prior ruling from the magistrate judge permitted QCI to utilize a demonstrative showing how a buy/sell arrangement works conditioned on the Defendants representation that they would use the demonstratives to show generally one way that QCI obtains optical drives. A5100. QCI believed the district court s later instruction was based on a false premise that QCI had changed its position. Prior to trial, LaserDynamics was made aware of QCI s contention that approximately 85% of its ODD purchases were through buy/sell arrangements. The testimony elicited by QCI at trial was ostensibly consistent with this contention, representing that QCI obtains drives from its customers more frequently than from ODD sellers. A754. Arguing that QCI did not run afoul of the earlier magistrate judge s condition that the demonstrative show only one way QCI obtains its drives, QCI viewed the district court s instruction unfairly prejudicial and moved for a new trial on that basis. QCI s motion for a new trial on these grounds was denied. 2. QCI s Challenge to the Proof of Infringement QCI challenged LaserDynamics contentions that the end users of the ODDs directly infringed the 981 Patent. Asserted claim 3 of the 981 Patent includes the step of processing an optical signal reflected from encoded pits on an optical disk.... The district court construed the phrase encoded pits on an optical disk to mean depression[s] in the surface of the disk which represent[] data or information. LaserDynamics, Inc. v. Asus Computer Int l, No. 2:06-cv-348-TJW-CE, 2008 U.S. Dist. LEXIS 63498, at *13 (E.D. Tex. Aug. 18, 2008) ( Markman Order ). The subsequent claimed step of collating the processed optical signal with an optical disk standard data which is stored in a memory was construed to mean comparing the processed optical signal with an optical disk standard data stored on a memory. Id. at *15. The Markman

15 15 LASERDYNAMICS v. QUANTA COMPUTER Order further explained that there is no requirement that the same optical signal determine both the total number of data layers and also pit configuration standard. Id. According to LaserDynamics expert, industry standards require that each type of optical disc (i.e., CD, DVD, etc.) has a particular arrangement of depressions within the data layer as well as a particular depth of the data layer from the surface of the disc, such that the depth and arrangement of depressions have a one-to-one correspondence. LaserDynamics theory of infringement was that the optical signal in the accused ODDs included a counter value that tracked the time for the ODD to change focus from the transparent outer surface of the disc to the internal data layer. When the counter value was compared with a known threshold counter value for a given type of optical disc, the type of disc (including its standard arrangement of depressions) could be identified. QCI filed a motion for JMOL of non-infringement, arguing that the ODDs in its laptop computers, by measuring a counter value of time, were not literally measuring an arrangement of depressions, which QCI contended was required by the language of claim 3 and the district court s claim constructions. Specifically, QCI notes claim 3 requires a step of settling modulation of servomechanism means dependent upon the optical disk standard data which corresponds with the processed optical signal, which the district court construed as establishing the regulation of the automatic feedback control system for mechanical motion dependent upon the recognized arrangement of depressions for an optical storage medium which corresponds to the processed optical signal. Markman Order at *16. QCI alleged that this construction indicates that the reference to operating the servomechanism based on optical disk standard data requires the ODD to identify a spatial value the recognized

16 LASERDYNAMICS v. QUANTA COMPUTER 16 arrangement of depressions not to calculate a temporal counter value in order to discriminate between optical disc types. A3190. The district court denied QCI s motion for JMOL, finding no basis to disturb the jury s infringement verdict. B. The First Jury Verdict and Post-Trial Proceedings The jury ultimately returned a verdict finding QCI liable for active inducement of infringement, and awarded $52 million in damages to LaserDynamics, almost the exact amount proffered by Mr. Murtha. After the verdict, QCI filed a motion for a remittitur or new trial pursuant to Federal Rule of Civil Procedure 59(a). In this motion, QCI argued that the verdict was grossly excessive and against the great weight of the evidence, and for the first time argued that Mr. Murtha s testimony should have been excluded due to his unreliable methodology in applying the entire market value rule i.e., using the revenues from sales of the entire laptop computers as the royalty base without having established that the patented feature drives the demand for the entire laptop computer. Rite-Hite Corp. v. Kelley Co., 56 F.3d 1538, 1549 (Fed. Cir. 1995). In other words, QCI argued that LaserDynamics failed to establish that the disc discrimination method covered by claim 3 of the 981 Patent was the basis for customer demand for the laptop computers. Id. The district court granted QCI s motion, finding that LaserDynamics had indeed improperly invoked the entire market value rule. LaserDynamics, Inc. v. Quanta Computer, Inc., No. 2:06-cv-348-TJW-CE, 2010 U.S. Dist. LEXIS (E.D. Tex. June 9, 2010) ( New Trial Op. ). The district court reasoned that [t]he price of the finished computers should not have been included in the royalty

17 17 LASERDYNAMICS v. QUANTA COMPUTER base [because] LaserDynamics presented no evidence that its patented method drove the demand for QCI s finished computers. Id. at *9. At best, LaserDynamics had only established that almost all computers sold in the retail market include optical disc drives and that customers would be hesitant to purchase computers without an optical disc drive. Id. at *10. LaserDynamics theory in the first trial was thus found to violate Rite-Hite as well as our then-recent decision in Lucent Techs., Inc. v. Gateway, Inc., 580 F.3d 1301 (Fed. Cir. 2009), 4 which further expounded on the entire market value rule. The district court concluded that the $52 million damages award was unsupportable and excessive, and granted QCI s motion. Id. at * Because the district court did not view Mr. Murtha s 6%-per-ODD royalty as clearly excessive, LaserDynamics was given the option of a new trial on damages or a remittitur to $6.2 million, which was calculated using the 6% royalty rate applied to each ODD sold as part of QCI s laptop computers. Id. at * LaserDynamics declined to accept the remittitur to $6.2 million and elected to have a new trial. C. The Second Trial Prior to the second trial on damages, QCI renewed its objections to the anticipated testimony of Mr. Murtha concerning his dismissive view of the existing licenses to the 981 Patent, and challenged his 6% royalty rate based on ODD average price for being improperly based on noncomparable licensing evidence. QCI also expressly challenged Mr. Murtha s 2% royalty applying the entire market value rule, relying on our decisions in Lucent Technologies, 580 F.3d 1301, and Uniloc USA, Inc. v. Microsoft Corp., 632 F.3d 1292 (Fed. Cir. 2011). QCI s 4 Lucent was issued two months after the jury verdict but before QCI s new trial motion was filed.

18 LASERDYNAMICS v. QUANTA COMPUTER 18 objections regarding the application of the entire market value rule were sustained. LaserDynamics, Inc. v. Quanta Computer, Inc., No. 2:06-cv-348-TJW-CE, 2011 U.S. Dist. LEXIS 42590, at *8 (E.D. Tex. Jan. 7, 2011) ( Mr. Murtha's opinions that a reasonable royalty is 2% of the entire market value of a computer, and that a disk drive constitutes a third of the value of the computer, are excluded. ). The district court permitted LaserDynamics to put on evidence regarding a 6% running royalty damages model based on ODD average price, but subject to certain restrictions regarding proof of comparability to the hypothetically negotiated license. LaserDynamics, Inc. v. Quanta Computer, Inc., No. 2:06-cv-348-TJW-CE, at 3 (E.D. Tex. Jan. 19, 2011) ( [T]he court DENIES Quanta s cross-motion to preclude Laser from arguing that a running royalty is appropriate. ); LaserDynamics, 2011 U.S. Dist. LEXIS 42590, at *10 (permitting Mr. Murtha to rely on the 1997 Licensing Executive Society survey to allude to general practices, such as preference for a running royalty or a lump sum, but [not to] testify as to the royalty rates discussed in the survey ); id. at *11 (ordering that, if seeking to present licenses as comparable to the jury, [i]t is not sufficient to state that both patents cover optical disk drive technology. The plaintiff must establish the functionality enabled by the patent-in-suit as well as the functionality purportedly covered by the licensed patent and compare their economic importance ). Before the second trial, QCI also filed a motion in limine to exclude the 2006 BenQ settlement agreement from evidence for having its probative value substantially outweighed by the danger of unfair prejudice or confusion of the issues under Federal Rule of Evidence 403. QCI s motion emphasized the unique circumstances of the BenQ settlement that rendered it non-comparable, as it was executed shortly before trial and after BenQ had been

19 19 LASERDYNAMICS v. QUANTA COMPUTER repeatedly sanctioned by the district court. QCI also challenged the probative value of any per unit royalty rate that might be extrapolated from the BenQ settlement, which involved only a one time lump sum royalty payment of $6 million. The district court denied QCI s motion, reasoning that LaserDynamics could use the BenQ agreement to prove up a per unit royalty rate from the information provided in the agreement so as to support its 6% per ODD royalty rate. LaserDynamics, Inc. v. Quanta Computer, Inc., No. 2:06-cv-348-TJW-CE, at 3 (E.D. Tex. Jan. 19, 2011). In light of these rulings, LaserDynamics offered testimony that damages should be $10.5 million based on a running royalty of 6% of the average price of a standalone ODD. While the average per-unit ODD price utilized in the first trial was the $28 mask price, LaserDynamics now used a $41 per ODD value that was calculated based on a relatively small sample of about 9,000 licensed noninfringing drives made by Sony that were sold as replacement drives by QCI. In response to QCI s objections, LaserDynamics contended that this increased value was accurate and reliable because prior to the first trial both QSI and QCI were accused of inducing infringement. According to LaserDynamics, the prices of QSI s ODDs and QCI s laptop computers were evaluated to support LaserDynamics damages theory going into the first trial since it was not until after the district court s rulings in the Pre-Trial Opinion that LaserDynamics dropped its claims against QSI. Going into the second trial, however, only QCI was accused of active inducement, and so the price of ODDs sold by QCI became a more central issue. Since QCI does not itself make and sell standalone ODDs, and since QCI presented no representative sales price, LaserDynamics used the average price of the replacement ODDs sold by QCI. QCI nevertheless contends that this

20 LASERDYNAMICS v. QUANTA COMPUTER 20 $41 price is far too high since the evidence is undisputed that mask price of $28 paid by QCI is always higher than the actual price of the ODD. QCI s expert testified that the appropriate damages amount was a lump sum payment of $1.2 million, based in large part on the fact that none of the now twenty-nine licenses in evidence (excluding the BenQ settlement) exceeded lump sum amounts of $1 million. Based on evidence that QCI could have switched from QSI drives to other licensed ODD suppliers to avoid infringement at a cost of $600,000, QCI s expert also opined that QCI would have paid twice that amount to have the freedom to use ODDs from any supplier. The jury ultimately awarded a lump sum amount of $8.5 million in damages. QCI moved for JMOL on the grounds that the hypothetical negotiation date had been improperly set as August 2006, that the evidence at trial did not support the jury s award of $8.5 million, and that LaserDynamics had failed to offer proof at trial to support its $10.5 million damages theory. The district court denied QCI s motion for JMOL. * * * LaserDynamics appealed the district court s granting QCI s motion for a new trial and/or remittitur based on the entire market value rule. QCI cross-appealed the district court s denial of a new trial on the alternative ground of the district court s allegedly prejudicial instruction to the jury. QCI also cross-appealed the district court s entry of summary judgment on the issues of implied license and patent exhaustion, its denial of QCI s motion for JMOL of non-infringement following the first trial, and its denial of QCI s motion for JMOL following the second trial. We have jurisdiction pursuant to 28 U.S.C. 1295(a)(1).

21 21 LASERDYNAMICS v. QUANTA COMPUTER III. DISCUSSION For issues not unique to patent law, we apply the law of the regional circuit where this appeal would otherwise lie, which in this case is the Fifth Circuit. i4i Ltd. P ship v. Microsoft Corp., 598 F.3d 831, 841 (Fed. Cir. 2010). Thus, the grant or denial of a motion for a remittitur or a new trial is reviewed for an abuse of discretion. Brunnemann v. Terra Int l, Inc., 975 F.2d 175, 177 (5th Cir. 1992); Bonura v. Sea Land Serv., Inc., 505 F.2d 665,669 (5th Cir. 1974). Evidentiary rulings are reviewed for an abuse of discretion. Industrias Magromer Cueros Y Pieles S.A. v. La. Bayou Furs, 293 F.3d 912, 924 (5th Cir. 2002). Decisions on motions for summary judgment and JMOL are reviewed de novo. Cambridge Toxicology Group v. Exnicios, 495 F.3d 169, 173, 179 (5th Cir. 2007). For reasons explained in detail below, we hold: (a) that the district court properly granted a new trial on damages following the first jury verdict; (b) that the district court erred in finding that QCI does not have an implied license to assemble and sell laptops using ODDs purchased via Philips and Sony/NEC/Optiarc; (c) that the district court properly denied QCI s motion for JMOL of non-infringement; (d) that the district court s jury instruction does not alone warrant a new trial on liability; (e) that the district court erred by setting the hypothetical negotiation date as August 2006; (f) that the district court erred in admitting the BenQ settlement agreement into evidence; and (g) that the district court erred in permitting Mr. Murtha to offer his opinion concerning a 6% per ODD running royalty rate based on ODD average price as a proper measure of reasonable royalty damages in the second trial. We address each of these issues in turn.

22 LASERDYNAMICS v. QUANTA COMPUTER 22 A. The District Court Properly Granted a New Trial on Damages LaserDynamics contends that the district court erred by granting QCI s motion for a new trial on damages after the conclusion of the first trial. Essentially, LaserDynamics believes that the district court was precluded from ordering a new trial under the circumstances, since QCI never raised its entire market value rule argument until after the jury verdict, and thereby waived any right to seek a new trial to rectify that error. Moreover, LaserDynamics denies that it improperly relied on the entire market value rule during the first trial, but contends that it instead used a permissible product value apportionment method. LaserDynamics Br. at We disagree with both of LaserDynamics arguments. 1. The Entire Market Value Rule We begin by noting that some products are made of many different components, one or more of which components may be covered by an asserted patent, while other components are not. This is especially true for electronic devices, which may include dozens of distinct components, many of which may be separately patented, the patents often being owned by different entities. To assess how much value each patented and non-patented component individually contributes to the overall end product e.g., a personal computer can be an exceedingly difficult and error-prone task. By statute, reasonable royalty damages are deemed the minimum amount of infringement damages adequate to compensate for the infringement. 35 U.S.C Such damages must be awarded for the use made of the invention by the infringer. Id. Where small elements of multi-component products are accused of infringement, calculating a royalty on the entire product carries a

23 23 LASERDYNAMICS v. QUANTA COMPUTER considerable risk that the patentee will be improperly compensated for non-infringing components of that product. Thus, it is generally required that royalties be based not on the entire product, but instead on the smallest salable patent-practicing unit. Cornell Univ. v. Hewlett- Packard Co., 609 F. Supp. 2d 279, 283, (N.D.N.Y. 2009) (explaining that counsel would have wisely abandoned a royalty base claim encompassing a product with significant non-infringing components. The logical and readily available alternative was the smallest salable infringing unit with close relation to the claimed invention namely the processor itself. ). The entire market value rule is a narrow exception to this general rule. If it can be shown that the patented feature drives the demand for an entire multi-component product, a patentee may be awarded damages as a percentage of revenues or profits attributable to the entire product. Rite-Hite, 56 F.3d at 1549, In other words, [t]he entire market value rule allows for the recovery of damages based on the value of an entire apparatus containing several features, when the feature patented constitutes the basis for customer demand. Lucent, 580 F.3d at 1336 (quoting TWM Mfg. Co. v. Dura Corp., 789 F.2d 895, 901 (Fed. Cir. 1986)). The entire market value rule is derived from Supreme Court precedent requiring that the patentee... must in every case give evidence tending to separate or apportion the defendant s profits and the patentee s damages between the patented feature and the unpatented features, and such evidence must be reliable and tangible, and not conjectural or speculative. Garretson v. Clark, 111 U.S. 120, 121 (1884). The Court explained that the entire value of the whole machine, as a marketable article, [must be] properly and legally attributable to the patented feature. Id.

24 LASERDYNAMICS v. QUANTA COMPUTER 24 In effect, the entire market value rule acts as a check to ensure that the royalty damages being sought under 35 U.S.C. 284 are in fact reasonable in light of the technology at issue. We have consistently maintained that a reasonable royalty analysis requires a court to hypothesize, not to speculate.... [T]he trial court must carefully tie proof of damages to the claimed invention s footprint in the market place. ResQNet.com, Inc. v. Lansa, Inc., 594 F.3d 860, 869 (Fed. Cir. 2010). A damages theory must be based on sound economic and factual predicates. Riles v. Shell Exploration & Prod. Co., 298 F.3d 1302, 1311 (Fed. Cir. 2002). The entire market value rule arose and evolved to limit the permissible scope of patentees damages theories. Importantly, the requirement to prove that the patented feature drives demand for the entire product may not be avoided by the use of a very small royalty rate. We recently rejected such a contention, raised again in this case by LaserDynamics, and clarified that [t]he Supreme Court and this court s precedents do not allow consideration of the entire market value of accused products for minor patent improvements simply by asserting a low enough royalty rate. Uniloc, 632 F.3d at (explaining that statements in Lucent suggesting otherwise were taken out of context). We reaffirm that in any case involving multi-component products, patentees may not calculate damages based on sales of the entire product, as opposed to the smallest salable patent-practicing unit, without showing that the demand for the entire product is attributable to the patented feature. Regardless of the chosen royalty rate, one way in which the error of an improperly admitted entire market value rule theory manifests itself is in the disclosure of the revenues earned by the accused infringer associated with a complete product rather than the patented compo-

25 25 LASERDYNAMICS v. QUANTA COMPUTER nent only. In Uniloc, we observed that such disclosure to the jury of the overall product revenues cannot help but skew the damages horizon for the jury, regardless of the contribution of the patented component to this revenue. Id. at 1320 (noting that the $19 billion cat was never put back into the bag, and that neither cross-examination nor a curative jury instruction could have offset the resulting unfair prejudice). Admission of such overall revenues, which have no demonstrated correlation to the value of the patented feature alone, only serve to make a patentee s proffered damages amount appear modest by comparison, and to artificially inflate the jury s damages calculation beyond that which is adequate to compensate for the infringement. Id.; see 35 U.S.C Turning to the facts of this case, LaserDynamics and Mr. Murtha unquestionably advanced an entire market value rule theory in the first trial. Mr. Murtha opined that a 2% running royalty applied to QCI s total revenues from sales of laptop computers in the United States $2.53 billion was an appropriate and reasonable royalty. The resulting figure presented to the jury was $52.1 million, and the jury awarded damages in nearly that exact amount. Whether called product value apportionment or anything else, the fact remains that the royalty was expressly calculated as a percentage of the entire market value of a laptop computer rather than a patentpracticing ODD alone. This, by definition, is an application of the entire market value rule. LaserDynamics use of the entire market value rule was impermissible, however, because LaserDynamics failed to present evidence showing that the patented disc discrimination method drove demand for the laptop computers. It is not enough to merely show that the disc discrimination method is viewed as valuable, important, or even essential to the use of the laptop computer. Nor is

26 LASERDYNAMICS v. QUANTA COMPUTER 26 it enough to show that a laptop computer without an ODD practicing the disc discrimination method would be commercially unviable. Were this sufficient, a plethora of features of a laptop computer could be deemed to drive demand for the entire product. To name a few, a high resolution screen, responsive keyboard, fast wireless network receiver, and extended-life battery are all in a sense important or essential features to a laptop computer; take away one of these features and consumers are unlikely to select such a laptop computer in the marketplace. But proof that consumers would not want a laptop computer without such features is not tantamount to proof that any one of those features alone drives the market for laptop computers. Put another way, if given a choice between two otherwise equivalent laptop computers, only one of which practices optical disc discrimination, proof that consumers would choose the laptop computer having the disc discrimination functionality says nothing as to whether the presence of that functionality is what motivates consumers to buy a laptop computer in the first place. It is this latter and higher degree of proof that must exist to support an entire market value rule theory. Our decision in Lucent is illustrative. There, the patent at issue involved a helpful and convenient date picker feature that was being used within the grand scheme of Microsoft s Outlook software. We held that because the patented feature was but a tiny feature of one part of a much larger software program, a royalty could not be properly calculated based on the value of the entire Outlook program because there was no evidence that anybody anywhere at any time ever bought Outlook... because it had [the patented] date picker. Lucent, 580 F.3d at (emphasis added).

27 27 LASERDYNAMICS v. QUANTA COMPUTER In this case, Mr. Murtha never conducted any market studies or consumer surveys to ascertain whether the demand for a laptop computer is driven by the patented technology. On the record before us, the patented method is best understood as a useful commodity-type feature that consumers expect will be present in all laptop computers. There is no evidence that this feature alone motivates consumers to purchase a laptop computer, such that the value of the entire computer can be attributed to the patented disc discrimination method. As the district court aptly stated, [a]t best, LaserDynamics proved only that almost all computers sold in the retail market include optical disc drives and that customers would be hesitant to purchase computers without an optical disc drive. New Trial Op. at *10. The district court correctly found that this evidence fails to satisfy the requirements of our precedent to support the usage of the entire market value rule when calculating reasonable royalty damages. Furthermore, Mr. Murtha s one-third apportionment to bring his royalty rate down from 6% per ODD to 2% per laptop computer appears to have been plucked out of thin air based on vague qualitative notions of the relative importance of the ODD technology. The district court correctly concluded that [a]lthough [LaserDynamics] argues that the many activities that may be performed on a computer using a disk drive, such as playing movies, music and games, transferring documents, backing up files, and installing software comprise a third of the value of a computer, [Mr. Murtha] offers no credible economic analysis to support that conclusion. LaserDynamics, 2011 U.S. Dist. LEXIS 42590, at *6. This complete lack of economic analysis to quantitatively support the one-third apportionment echoes the kind of arbitrariness of the 25% Rule that we recently and emphatically rejected from damages experts, and would alone justify excluding

28 LASERDYNAMICS v. QUANTA COMPUTER 28 Mr. Murtha s opinions in the first trial. Cf. Uniloc, 632 F.3d at 1318 ( Gemini s starting point of a 25 percent royalty had no relation to the facts of the case, and as such, was arbitrary, unreliable, and irrelevant. The use of such a rule fails to pass muster under Daubert and taints the jury s damages calculation. ). Finally, we reject the contention that practical and economic necessity compelled LaserDynamics to base its royalty on the price of an entire laptop computer. LaserDynamics Br. at LaserDynamics emphasizes that QCI is in the business of assembling and selling complete laptop computers, not independent ODDs, and that QCI does not track the prices, revenues, or profits associated with individual components. Likewise, LaserDynamics points out that QCI purchases ODDs for a mask price, which the district court described as nominal and essentially an accounting fiction that offers little evidence of the drives actual value. LaserDynamics, Inc. v. Quanta Computer, Inc., No. 2:06-cv-348-TJW- CE (E.D. Tex. Jan. 21, 2011). LaserDynamics further points to Mr. Murtha s testimony that, in his prior experience working in patent licensing at IBM, IBM would often base royalties on entire products to address such accounting difficulties. Thus, LaserDynamics concludes that the parties would have had to use the value of the entire laptop computer as the royalty base in structuring a hypothetical license agreement, as it reflects the only true market value of anything that QCI sells. LaserDynamics overlooks that a per-unit running royalty is not the only form of a reasonable royalty that the parties might have agreed to in a hypothetical negotiation. An alternate form is evidenced by the many license agreements to the 981 Patent in the record for lump sum royalties that are not calculated as a percentage of any component or product, which immediately

29 29 LASERDYNAMICS v. QUANTA COMPUTER belies the argument that using a laptop computer as the royalty base is necessary. LaserDynamics necessity argument also fails to address the fundamental concern of the entire market value rule, since permitting LaserDynamics to use a laptop computer royalty base does not ensure that the royalty rate applied thereto does not overreach and encompass components not covered by the patent. That is, if difficulty in precisely identifying the value of the ODDs is what justifies using complete laptop computers as the royalty base, when it comes time to then apportion a royalty rate that accounts for the ODD contribution only, the exceedingly difficult and error-prone task of discerning the ODD s value relative to all other components in the laptop remains. Moreover, LaserDynamics provides no reason that QCI s own lack of internal tracking and accounting of individual components or its mask price purchases precludes LaserDynamics from deriving or obtaining accurate information concerning ODD values from third parties, industry practices, etc. LaserDynamics in fact did obtain and use alternative pricing information from Sony-made ODDs in the second trial. As explained below, this Sony-made ODD pricing information was not per se unreliable, as the jury was entitled to weigh it against QCI s competing views of appropriate ODD pricing. Thus, we see no reason to establish a necessity-based exception to the entire market value rule for LaserDynamics in this case. 2. The Grant of a New Trial Having established that LaserDynamics theory of damages was legally unsupportable, we turn to the question of whether the district court abused its discretion in granting QCI s post-verdict motion and offering LaserDynamics a choice between a new damages trial and a